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Prof. Usha J C
E mail : usha.ms.mc@msruas.ac.in
Prof. Reshma K.J.
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Prof. Savitha K
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Prof. Rakesh C
E mail : rakeshc.co.mc@msruas.ac.in
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Session Contents
Business Analysis
Ratio Analysis
• Introduction
• DuPont analysis
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Learning Objectives
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Financial analysis
Financial analysis is a process of selecting, evaluating, and
interpreting financial data, along with other pertinent information, in
order to formulate an assessment of a company’s present and future
financial condition and performance.
Financial
Market Data Disclosures
Economic Data
Financial Analysis
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Financial Statement Analysis
Introduction
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Financial Statements
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Users of Information
• Managers
• Suppliers
• Creditors
• Share Holders
• Potential Investors
• Regulatory Agencies
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Financial Statement Analysis
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Types of Financial Analysis
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Types of Financial Analysis (Cont.)
b) Internal Analysis
• Performed by the persons who are internal to the organization
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Types of Financial Analysis (Cont.)
• The trend of each item in the financial statements over the number
of years are analysed
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Horizontal Analysis (Contd.)
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Types of Financial Analysis (Cont.)
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Methods or Tools of Analysis
Ratio analysis
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Comparative Financial Statements
• Statement which compares financial data from different
periods of time
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Comparative Financial Statements contd..
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Types of Comparative financial statements
• Balance sheet
• Income statement
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Comparative Balance sheet
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Example on Comparative Balance sheet
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Comparative Income Statement
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Example on Comparative Balance sheet
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Common Size Statements
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Example: Common-size analysis
Year 2008 2009 2010 2011 2012 2013
Cash 6% 6% 5% 5% 5% 5%
Inventory 23% 23% 23% 23% 22% 22%
Accounts receivable 16% 16% 16% 15% 15% 15%
Net plant and equipment 50% 50% 51% 51% 52% 52%
Intangibles 6% 6% 5% 5% 5% 5%
Total assets 100% 100% 100% 100% 100% 100%
Graphically:
100%
Proportion
50%
of Assets
0%
2008 2009 2010 2011 2012 2013
Fiscal Year
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Common Size Statements Vs Comparative Financial
Statements
Common Size Statements Comparative Financial Statements
• A common-size statement that • Comparative financial statements are also
expresses all values as percentages of called year-to-year change statements
the base value in the same year • Comparative financial statements can use
• Vertical analysis is most beneficial with both absolute amounts and percentages
income statements to provide meaningful analysis
• Total sales figure is usually the base • This type of analysis puts absolute
value (100 percent) changes and percentage changes in
• Various expenses, such as cost of perspective
goods sold, advertising and • No changes can be computed if there is no
administrative expenses, are expressed base figure available and no meaningful
as percentages of total sales change can be calculated if one figure is
• When used with balance sheets, positive and the other is negative
vertical analysis shows how various
balance sheet items (assets, liabilities,
equity) relate to the total assets figure
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Cash flow statement
• Cash flow statement is a listing of the flows of cash into and out of
the business or project
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Funds flow statement
• Shows the inflow and outflow of funds i.e. Sources and Applications
of funds for a particular period
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Ratio Analysis
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Limitations of Financial Statement Analysis
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Advantages of Financial Statement Analysis
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3. Financial Ratio Analysis
• Financial ratio analysis is the use of relationships among financial
statement accounts to gauge the financial condition and
performance of a company.
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Activity Ratios
• Turnover ratios reflect the number of times assets flow into and out
of the company during the period
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Operating cycle components
• The operating cycle is the length of time from when a company makes an
investment in goods and services to the time it collects cash from its
accounts receivable
• The net operating cycle is the length of time from when a company
makes an investment in goods and services, considering the company
makes some of its purchases on credit, to the time it collects cash from its
accounts receivable
• The length of the operating cycle and net operating cycle provides
information on the company’s need for liquidity: The longer the operating
cycle, the greater the need for liquidity
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Operating cycle components
| | | |
Operating Cycle
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Operating Cycle Formulas
• Liquidity ratios:
Current assets Ability to satisfy current
Current ratio =
Current liabilities liabilities using current assets
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Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Solvency Analysis
• A company’s business risk is determined, in large part,
from the company’s line of business
Risk
• Financial risk is the risk resulting from a company’s
choice of how to finance the business using debt or
equity Business Risk Financial Risk
• We use solvency ratios to assess a company’s financial
risk
• There are two types of solvency ratios: component Sales Risk
percentages and coverage ratios
– Component percentages involve comparing the
elements in the capital structure Operating Risk
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Solvency ratios
Total debt Proportion of assets financed with debt.
Debt−to−assets ratio =
Total assets
Long−term debt
Component-Percentage
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Profitability
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Profitability ratios: Margins
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Profitability Ratios: Returns
Return ratios compare a measure of profit with the investment that produces the profit:
Operating income
Operating return on assets =
Average total assets
Net income
Return on assets =
Average total assets
Net income
Return on total capital =
Average interest−bearing debt + Average total equity
Net income
Return on equity =
Average shareholders′ equity
Operating income
Operating return on assets =
Average total assets
Net Operating Profit x 100
Return on Investments = Capital Employed
– Financial leverage
– Net profit margin Operating Profit
Margin
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Five-Component DuPont Model
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Example: The DuPont Formula
Suppose that an analyst has noticed that the return on equity of the D
Company has declined from FY2012 to FY2013. Using the DuPont formula,
explain the source of this decline.
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Example: the DuPont Formula
2013 2012
Return on equity 0.20 0.22
Return on assets 0.13 0.11
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Other Ratios
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Other Ratios
• Price-to-earnings ratio (PE or P/E) is the ratio of the price per share
of equity to the earnings per share.
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Other Ratios
Measures of Dividend Payment:
Dividends per Dividends paid to shareholders
=
share (DPS) Weighted average number of ordinary shares outstanding
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Effective Use of Ratio Analysis
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Summary
Business analysis is the process of evaluating a company’s economic
prospects and risks.
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